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Saturday, September 8, 2012

The competition for places at institutions of higher learning has become more intense over the last decade. The costs have also gone up. Increasingly, the answer for many parents is to start saving and investing early so that they will be able to get the lump sum needed to finance their children's education. The benefits are clear. Saving early and often will help you to put aside less every month. Moreover by investing early, you will see your investments outpace inflation and increasing education costs, as illustrated above.

Saving part of our current income seems to be the only way to provide the education fund. The only problem is that we must have enough time to earn. Should our time run out earlier than expected, we can only count on whatever that's accumulated, plus some interests. Thankfully, we could use a "special account" that guantee the desired funds even if your time runs outs. All you need to do is to transfer your regular savings into our account, and see it grow.

Some useful references

Singapore to get its 5th and 6th universities

"The schools were chosen because they work closely with industry and focus on applied degrees" - Prime Minister Lee Hsien Loong announced at the National Day Rally on Sunday night that both the Singapore Institute of Technology (SIT) and UniSIM would become universities. SIT will expand places and begin awarding degrees while UniSIM will add full-time programmes.

. . . . . . . . . . . . . . . . . .

Room for more graduates

"By 2020, as much as 50 per cent of each cohort will enter university."

Now that we know the importance of setting up the funded succession plan, (Business Succession Planning) I believe that many business owners would very much prefer to have a proper plan drafted so that they are guaranteed of their effort they have put in. Security and stability are two important pillars in a succession plan.

Many years back, while I was attending the LUTC certification, I attempted an assigned action project in the Business Continuity Module. In that project, I had interviewed with a few business owners and informed them the intention of the meeting. Not too bad, I managed to secure a few appointments.

"Dear Business Owners, what do you want to happen to your business due to your retirement or upon your early demise?"

That was what I asked. They were taken aback. They are too busy making money. They are experts in making money. They didn't really think about these issues at all. They wasn't really aware of it too. So I shared with them what I've learned during the course; explaining the possible outcomes which might not be desirable. And I got to explain the 3 common options available:Keep
the business.One option is to keep the business in the family. Is that a possibility? Would you want to keep the business in the family? Which family members would you like to have own your share of the business? Who would run the business on a day-to-day basis in your place? Have you talked to him or her about it? Is he or she willing? Able to run the business? Are heirs and surviving owners compatible? How much annual profit or loss do you estimate over the next five years? Would you want to guarantee these profits to your family? For how long? Would your death cause other outstanding monetary needs?

Sell
the business.Another option, a popular one, is to sell the business as a going concern. Would you want to sell your share of the business to the other owners, and have them buy out your family members?To whom would you to sell your share? Are they willing to buy? Do they want to buy? What would the price and terms of payment be? How will it be funded?Would the buyout be a legally enforceable agreement?

Liquidate
the business. The third option is to close down the business and sell
the assets for cash. How does that sound to you?How much would you sell the business for today?How much would the company lose in a forced liquidationversus what it would have sold for as a going business? Do you have any other business-related debts? Do you want to pass them along to your heir at your death?What arrangements have you made to see that your objectives are carried out?

With these three options, it has helps me to assist business owners to build, to protect and to grow their legacy. In business, just like fighting a war, we need both the shield (the protection arm) and the sword (the investment arm) to protect and grow our fort! By engaging financial planner, their immediate role as an adviser to assit business owners to protect and to build their business "empire"!

As business grows, it’s quite common for closely-held business owners to channel the profits to be reinvested into their business to fund growth. Hence, a significant part of their total asset portfolio is invested in the business. So much so that often business owners see their value in the business as their “default CPF” which they assume will be available on retirement.Personally, there is a likely risk involved in this strategy as that investment is vulnerable to “break up”, whether for a voluntary reason, i.e. retirement, or for an involuntary reason, i.e. upon their untimely death or their disability to continue in running the business due to contracting a critical illness and long-term injury.When there is no business succession plan in place, the business break up can cause confusion, conflicts and potentially put significantly assets at risk. All business relationship will inevitably come to an end.

So what is business succession planning about?

Briefly, business succession involves planning for the smooth transfer and succession of the business interests of business owners for both voluntary and involuntary situation, as mentioned. It is advisable to work with your financial planner to identify the possibilities and plan for the desired outcome. Putting legal agreements and funding in place before they are needed is simply good planning to protect what can often be a very large investment and a significant portion of the total assets.There are two legal agreements available to cater for these departure possibilities. An Exit Agreement covers the issues surrounding a voluntary departure, e.g. retirement, while a Buy/Sell Agreement covers off involuntary departures caused by death, total and permanent disablement or critical illness.When a partner voluntarily leaves, the Exit Agreement stipulates terms such as the valuation method, perhaps a discount to that because of the early departure and the payment terms e.g. the agreed amount is paid down over three years. With Exit Agreement this payment is funded by the remaining partner, and is often structured so that it is equivalent to the extra profit retained.However, when someone’s departure is caused by death or disablement, the funding is usually via insurance. This is where the financial planner has a vital role to play, and to put protection in place for those involuntary exits.What would happen to the business if one of the partners could never work again? How long would they be prepared to support each other if one of them became critically ill? Would they be happy to work with their partner’s spouse if their partner could no longer work in the business? These are the common issues that business owners would ponder and funding a Buy/Sell agreement would be an excellent foresight.

What is the Buy/Sell Agreement?

The Buy/Sell Agreement is a devise used commonly for purposes of business succession to provide smooth transfer of business interests to the surviving business partners upon a “trigger” event. The agreement will state the terms and conditions for the sales and purchase of business interests upon the trigger event of a co-owner’s death, disability, retirement, withdrawal from the business or other events. The main objective of such an agreement is to ensure that the business continues with good standing and the outgoing owner’s beneficiaries receive the fair market price for the sale or the transferred of the business interest.

How does the Buy/Sell agreement work?

In most cases, the Buy/Sell agreement comes into effect on the payment of an insurance claim for death, total and permanent disablement (TPD) or critical illness to one of the owners. And the agreement would enforce the transfer of their share to the other co-owners or surviving partners.To illustrate my point: Harry and Barry have a buy/sell agreement that stipulates if one of them dies or becomes TPD, the other receives their share of the business. In this instance, Harry dies and the buy/sell agreement is triggered by the payment of the insurance proceeds. Harry’s life policy is paid out to his estate, and Barry in turn receives Harry’s 50% share of the business, at no cost!Now it may sound odd that Barry receives the shares for no cost, but keep in mind that both parties are in equal position when the agreement is drawn up. It could happen to either one of them. The critical element is the insurance proceeds. This helps ensure the ‘departing’ partner and his or her family receives an amount equal to the value of the business, as desired and planned.

Imagine if there is no agreement or no insurance in the first place.

How to fund the agreement?

Self-ownership is one preferred option for a number of reasons. If a partner dies, his estate receives the insurance proceeds, tax free. With a Buy/Sell agreement in place, his share in the business then transfers to the remaining partner(s). Such an instance becomes a timely investment – money is available when it is needed most. It is straight forward approach and simple to understand, so it’s easy for business owners to act.Next, with a properly drafted Buy/Sell agreement it is also possible to combine an individual’s different insurance needs into the one policy e.g. business funding, debts owed to the business, family needs, etc. Under these self-owned policy would reduce the cost for the client.Self-owned policies also reduce the risk of a bankruptcy or insolvency soaking up the insurance. With cross-owned or company owned policies there is always a risk that if the other partner is bankrupt or the business is insolvent at the time, the proceeds would be directed straight to creditors and the estate or partner could miss out.Having a trust is another option although this needs to be treated with caution. This is where a special purpose trust is established to own the insurance policies, with the trustee’s only duty being to pass on assets to the appropriate beneficiaries. These are sometimes used where there are a large number of partners, and there is a chance that over time, one or more will depart and other will join. Rather than having to amend the buy/sell agreement every time a change in ownership occurs, these changes are managed via a register attached to the Trust, where the change in owners and policies can be noted. It also reduces the cost as an individual’s different needs, as mentioned above, can be combines into one policy, reducing policy fees.The Trust need to be properly drafted with the business purpose in mind to ensure that the trustee performs no other duty other than pass on the insurance proceeds to the appropriate beneficiaries. Other issues to be considered include the potential annual fees associated with a third party acting as a trustee and possibly taking a percentage of the proceeds.

What if the insurance funding is prohibited?

Sometimes, financial planner can’t get insurance for one of the partners or the loading is prohibitive due to health reasons. This is where an Exit Agreement has an additional role to play.Let’s say there are three partners – Anne, Bob and Chris. They can all get life cover but Bob can’t get TPD cover. The life cover can be implemented for all three partners, to be supported with a buy/sell agreement to ensure the shares are transferred in the event if one of them dying. A TPD payment can also be included as trigger event however it will obviously not be applicable in the event of Bob suffering a total and permanent disablement. In this instance, the Exit Agreement can be used to cover Bob suffering a total and permanent disablement. If Bob can no longer work due to stroke as an example, Anne and Chris can force him to transfer his shares to them and he in turn will need to receive a payment from them. Obviously that won’t be funded by insurance but terms payments and possibly a discount to a value can be written into the contract to make it easier for the remaining partners.While this might not be as ideal as insurance funding, it does provide the other business owners with some comfort that should Bob suffer a total and permanent disablement that they have an agreement in place to deal with it.It’s critical that business partners implement business succession plans to protect what often represents a large proportion of their total wealth. More often than not a large number of businesses might not have such plans in place.

So, business owners would engaged financial plannerwho understand their business to facilitate this business succession planning, to provide a funding solution via insurance in the event of the death, total and permanent disablement or critical illness of the partners. Without proper planning, business owners are not guaranteed of their effort they have put in. Lastly, to the business owners,what do you really want to happen to your business due to your retirement or early demise?

Thursday, September 6, 2012

I was featured in this episode for <<财经追击 Money Week>>. So how was it started? I recalled....

One morning, I think it's about 3 weeks ago, while we are having our usual breakfast session, Ms. Michelle Ee, our Insurance Director, asked me to address the following financial situation w.r.t. debt management. And that's how I got "famous".

Nevertheless, I enjoy the shooting and got to know new friends and appreciate the importance of Business Mandarin. I must take this opportunity to thank Mr. Liu Zhipeng and his team for being so patient with me during the shoot. Also Mr. Eg Yi Fan, a brilliant gentleman and an amazing listener who is able to understand my explanation on the tedious loan calculation during our tele-conversation.

So what was the question?

Audience : Let's address him as X

Subject: Tuition Fee Loan

"I just graduated from a local university with a interest-free tuition fee loan when I was a full-time student. However, my loan which is about S$50,000 will be interest-bearing from 1st August 2012.

The interest rate will be at prime lending rate (board rate) at 4.75% per annum.

I can choose to pay a minimum amount of S$100 monthly for a maximum of 5 years.

I can also choose to defer payment till August 2014, which means I can start to pay S$100 monthly from 1st August 2014, but interest will still be incurred during the 2 years when I didn't make any monthly payment. (But of course I cannot choose to pay minimum of S$100 as this amount is not sufficient to fully repay everything within 5 years) Currently, I have a total liquid assets of S$100,000 including:

S$35,000 cash

S$15,000 fixed deposit (matured in July 2013)

S$50,000 of stocks (most of them are blue chips, high-yield such as Singtel, Starhub, SPH, Singpost and REITS which are now all above at least 10% above the price I had bought) I would like to ask if I should pay all the S$50,000 before the interest commence, or should I do otherwise? Thanks!"

So about 20 minutes later, I got it written on my ipad and send her the draft.

"Hi Michelle,

As spoken, if X want to be debt free, then I would suggest he fully paid off his loan.

This is one of the options.

Next, he could paid off his loan over the next five years, if he want to feel "cash-asset".

So with this available cash at hand, he could invest his money to get a better return, subject to his risk appetite. Five years is a reasonable horizon to get his money invested.

However, first thing first.

Debt is not an issue, it is managing the debt that might post a potential issue.

So first question is to find out whether he can afford to pay the $100 monthly repayment.

If he can, then the next question is how comfortable is he to pay the extra on his monthly repayment? Meaning to say, have a higher monthly repayment, say $200 per month. This will shorten the loan tenure.

If he preferred to be debt free, my answer is obvious as mentioned earlier.

Second question is the debt is manageable, then it's a question of what is his attitude towards investment risk?

Cash in one hand, loan on the other. Then he need to ascertain his target rate of return for his money to work for him. In this case, the loan rate is 4.75%, so if he is targeting to get that extra 20%, then his targeted rate of return shall be at least 5.7%. (4.75% x 120%)

Free Worksheet

Here you could find helpful worksheets for your own analysis. I will be adding to this list of collection. Let me know if you are looking for a particular worksheet and I will try to come up something.

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